Corp Fin Session Notes Oct 2015

7/25/2019 Corp Fin Session Notes Oct 2015

1/100

If you consider a mfg company or a trading company or software or non-banks,

Balance Sheet

Liabilities Assets

Source of Funds Application of Funds

Financing Side Operating Side

Most of finance work is here Do you really need so much

here do we get funding from Do we really need this pro!ect, if yes,

If we can get from multiple sources, why, please !ustify

which is the best mi" o funding

#$ %wners

&$ 'enders(, )endors

Owners / Shareholders*romoters

Institutions that are willing to subscribe to e+uity

Domestic

Foreign

)arious kind of foreign inestors

edge funds

."change traded funds

/egular fund managers.merging market funds

India focussed funds

0tart up, !ust aboe start ups

1ngel funding

)enture capital


2/100

*riate e+uity

%wner gies you cash and e"pects capital appreciation

If he inests /s #22, he e"pects /s #,222 3you need not pay him, but if the mar

holding at /s #,222, he is thrilled4

Diidends, if at all you pay, are petty cash - the purpose of inestment is not di

appreciation

Lenders

Banks, Financial Institutions, NBFCs

Foreign Institutions

/etail *ublic

5erm 'oans

orking capital facilities*acking Credit

*re 0hipment Credit

*ost 0hipment Credit

Buyers Credit

Bill Discounting

Bonds

Fi"ed Deposits

*reference 0hares6nsecured 'oans

'ending means the lender gies you cash and e"pects two sets of cash flows fro

a$ Interest

b$ /eturn of principal

Own Sources of Funding7our own hard work and profits generated from hard work - retained earnings -

7ou hae some businesses that aren8t doing well, or are doing well, but you nee

you sell them off and get cash

0ometimes, you could argue that these businesses are not my core competence

to diest


3/100

Vendors

ow are endors sources of funds

5hey proide you with products and serices without asking you to pay right aw

5his is the most common source for working capital 3short term business manag

Next session - I want roups ! to " to be read# to present to us the followin

0i9e of the debt market in the world, with some composition break up

Bonds

Banks, Institutions

:oernment assistance

IMF, B

Multi lateral institutions

roups $ to !%/!& as the case 'a# be%eriew of e+uity markets

ow large are they

ho are the big inestors

ho are the small ones

hat is this emerging market animal, how large, how trendy

ho are these hedge funds, other funds

5alk for ten min, +uestions for &;( min

(hat is pac)ing credit

*acking credit, pre-shipment, post-shipment - these are all Indian banks faciliti

bring in dollars

/upee loans are e"pensie - #2 to # to ?=

But dollar loans carry a sword - e"change olatility - if /s @< becomes /s @A, yo

But if you are an e"porter, you hae a natural hedge - your inflows will also be

*re-shipment - from the date of getting your order to the date of shipment

*ost-shipment - your asset has conerted from Inentories into /eceiables

*i'e +alue of 'one#

If you gie me /s #22 today and I return back /s #22 in the year &2&2, that is no


4/100

#Interest

& Inflation - sub-set of Interest

(/isk

>%pportunity Cost

Inflation is a sub-set of Interest

Interest rates in India are #2 to #


5/100

Discounting

,o'pounding

7ou place a Fi"ed Deposit in 0BI for /s #2 lakhs at E$ #($#(

> #($#( #$&< #>$(A

< #>$(A #$(? #

r E$$(A 5he Future alue of /s #2 lakhs 3after ( years o

1nswer - they were born in different years and other factors KInde" is not an absolute number, it is a relatie number

%ne fine day in #E?A, some wise people thought, lets start with #22 as

1nother fine day in #EE>, some other wise people thought, lets start wi

5he correlation tends to be EE$EA or so


17/100

1 company is listed on an e"change B0., N0.

It can be listed on both

Can it be part of the two indices

7es

But the company has no role in the inde" constitution

If you are /eliance, they want you there

5here is a te"t book which most people say ranks as the best in the wo

*lease read the respectie chapters and reach out to me for any +uesti

0IS,O1N*IN

7our friend wants a loan

e can repay you /s #< lakhs after < years

7ou want to earn #&=ow much should you lend him today

7ear Cls Bal Interest %p Bal #&=

< # #($(E #$>( ##$E@ #r is det

( ##$E@ #$&A #2$@A 7ou diid

& #2$@A #$#> E$


18/100

e determine *resent )alue Factor

5his is a simple tool to help us handle multiple cash flows

hat is the present alue of one rupee that might be coming to you af

7ear *) Factor

2 #$222

# 2$AE( If you gae him 2$AE( today and he return

& 2$?E?

( 2$?#&

> 2$@(@

< 2$

7ear Nominal *) Factor Discounted

CashFlows CashFlows

2 - #$222 - If you len

# - 2$AE( - returns b

& - 2$?E? - you woul

( - 2$?#& -

> ($22 2$@(@ #$E#< ($22 2$


19/100

& A$@& #$2( - E$@@

( E$@@ #$#@ - #2$A#

> #2$A# #$(2 ($22 E$##

< E$## #$2E ($22 ?$

@ ?$ 2$A@ ($22 E

@ - (@,222 2$2< - #>,

E - (@,222 2$(@# - #(,22@

#2 - (@,222 2$(&( - ##,@# - (@,222 2$&2< - ?,(AA

#< #,,AEA

- 2

."cel has a ready function called I// 3Internal /ate of /eturn4 for such

##$EA=


21/100

pocket

crores - great company

nce 0heet - 5elco, 5isco, Mafatlal,

noer

the basis of Market Cap - suddenly

osses in the *J'

er has been no

r N%

, #E2>, #E2< in the 60


22/100

scope for an upmoe

rket

2 cr is free float

roducts with almost no

lity for inesting in high risk

on alphabets

re ruthless capitalists

=, the inde" will also tend to fall

ld

he base 30ense"4

th #222 as the base 3Nifty4


23/100

ld in Finance

ns

##&=

te of interest

rmined

by 3#r4 to discount your cash flows

hs is the present alue

khs is the future alue

m present to future is 8compounding8 ck from future to present is 8discounting8

?, A


24/100

er " years

d back on rupee, you would hae earned #&=

him /s ?$?2 lakhs today and he

ck /s ($22 lakhs per annum as aboe,

hae earned #&= in this transaction


25/100

perate

ash flows are drien by facts, businessand come from domain e"perts

inance 3knowledge, concepts4


26/100

situations where you sole for 8r8


27/100

Si'ple personal life exa'ples

7ou want a certain sum of money at a future date - /s &< lakhs in < years

7ou can sae /s "" per annum - /s ( lakhs

hat is the re+uired rate of return for you to achiee your ob!ectie

7ear CashFlows

2 - ($22 #?$=

# - ($22

& - ($22

( - ($22

> - ($22

< &


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(? - @$@#

>2 - @>$@# $?? - @>$(A

># - @>$(A $?< - @>$#(

>& - @>$#( $?( - @($A@

>( - @($A@ $?# - @($


29/100

?( - (2$A< - &?$E# $?$?< A(,222

**F #2#,??> #?

> - &(2,222 &&(,#A? &,2AA,>EE #@

< - &(2,222 &&(,#A? #,A#@,2A@ # A

#( - &(2,222 &&(,#A? - &(2,222 &&(,#A? < @

#< - &(2,222 &&(,#A? >>A,E2E >2 (

#A - &(2,222 &&(,#A? &E cr, /s > cr, /s > cr and then sell it off for /s

Is this a good idea

ow would corporates typically ealuate this idea

#3a#bac) period More popular

& I44 More popular

(.I44

>Net 3resent Value N3V More popular


31/100

@3rofitabilit# Index

ear ,ashFlows ,u'u,F 3V Factor 0,F ,u'u0,F

2 - #2$22 - #2$22 #$222 - #2$22 - #2$22

# &$22 - A$22 2$A?? #$?< - A$&

> >$22 ($22 2$ years - N%

#A months, lets see#& months, okay wow

I44

&


32/100

5hat problem might make the I// unreliable - &< is not &< - it !ust looks like

5he I// assumes that all intermediate cash flows can be reinested at the I/

It re+uires brilliance on a daily basis

hich is not easy

igh I//s may not be practically achieeable

Most of the time, the incremental cash flows are reinested in some treasur

/easonable I//s are reliable - In India, an I// of #& to #?= is considered reas

may hae #,222 pro!ects aailable at any point in time and surpluses from ot

in new pro!ects

Bill :ates saw this problem that humanity is facing with the I//

e created MI// - Modified I//

MI// asks for a borrowing rate and a reinestment rateBorrowing rate #&=

/einestment rate @=

MI// #A$E?=

5he MI// has its own problems, but it probably makes the higher I// a little

5his problem of the I// is also called /.IN).05M.N5 /I0

N3V

Net means net of inflows and outflows

hat does /s ($A# positie mean

1 positie N*) means your return is higher than your cost of capital, so pro!

1 negatie N*) means your return is lower than your cost of capital, so pro!

not een earning #>=4

1fter < years, what would be your cash in hand, assuming the pro!ects runs($A# #>= ##>= < ?$((

ear ,ashFlows Interest /epayment Cl Bal

2 - #2$22 #2$22

# &$22 #$>2 2$@2 E$>2

& ($22 #$(& #$@A ?$?&


33/100

( >$22 #$2A &$E& >$A2

> >$22 2$@? ($(( #$>?

< E$22 2$ A$?E - ?$((

0iscounted 3a#bac) 3eriod

5he cash flow of the


34/100

annum number4

2$(@$22&


35/100


36/100

from 'IC right now

I 'ife - &2 years, /s # cr

'IC will pay you /s # cr plus a loyalty bonus

which is appro" ?2;#222 on an aerage


37/100

'4

pend /s #2 crs on it

< cr at the end of the


38/100

Cost of Capital - as #>=

# r ##>=

4


39/100

&ows

:e assumed 1! in the last e.am#le, but why 1!, how 1!

*om#anies are unded by &a( debt and &b( euity

4ebt is #ro+ided by lenders, who want a rate o interest and they want #rinci#al ba=uity is #ro+ided by in+estors, who want the share #rice to 3o u# u# u# and they

*a#ital 5 4ebt D =uity

*ost o undin3 &rate o discountin3( comes rom &a( cost o debt and &b( cost o e

(ost of 'ebt

I you were to borrow today, at what rate would the world 3i+e you undin3

%he interest that you #ay is a ta. deductible e.#ense - the interest reduces your #

I you #ay interest at 10! and your ta. rate is 80!, eJecti+ely you ha+e borrowed

'ou borrowed rom ;4F* or you home at 10!

%he interest that you #ay is ta. deductible

I your salary income is "s 10 lakhs and this interest is "s 12)0 lakhs, your ta.able

I your rate o ta. is 80!, then you ha+e sa+ed 80! on "s 12)0 lakhs, that is "s )

'ou #aid ;4F* 1)0000 10!

'ou sa+ed ta. 80! )000 8!

'our eJecti+e cost o interest 90! 10)000 9200!

I you ha+e issued a bond with a cou#on o !, but the current '% &yield, interest

what is your cost o debt K

:e should consider the current market rates &and not your historical costs(

*urrent market rate &yield, '%( $200!

%a. beneft 80! 620!

Post ta. cost o debt 90! )270!

I ha+e one loan rom the bond market, where the '% is $!

I ha+e another loan rom BI, where historically I ha+e #aid 16!

But now BI is ready to 3i+e me resh loans at 112)0!

:hat is my BI cost o debt 112)0! 80! 82)! $20)!

%ref +hares

Pre hares are like bonds in terms o eatures, but the di+idend I #ay here is not t

I ha+e issued Pre hares o "s 100 ace +alue, they are uoted in the market at "s

4i+idend is $!, balance tenor is 7 years


53/100

:hat is the eJecti+e cost o these Pre hares

'ear *ashFlow

0 -106 92)9! o ta. beneft

1 $ 92)9! o cost o debt o this instrument is

6 $8 $

$

) $

7 10$

Equity +hares

:hat is the cost o euity shares

any #eo#le think cost is Gero, bcoG we are not obli3ated to #ay anythin3 to the e

%here is no a##arent @ le3al cost, but there are shareholders e.#ectations, which b

at least that much - that becomes your cost o euity;ow much do shareholders e.#ect you to earn

(A% - %rof William +harpe of +tanford

%he shareholders will frst o all seek a risk ree return based on their economy

o, in India, we ha+e a < ec market, which is risk ree &


54/100

with a return o 129!

But you are askin3 me to in+est in your com#any

;ow risky is your com#any +i+-s-+is the ense.

u##ose your com#any is 1286times more risky than ense.

%his is com#uted based on market #rice mo+ements &+olatility o the share #rice(

%he in+estor will ask or more com#ensation

"elati+e risk is called Beta

(ost of Equity . *isk &ree *ate / 0E*% x *elatie *isk1

$261! 7297! 1286 $26! 19218!

Lsually, these kind o calculations are done by lon3 term in+estors

Aon3 term in+estors 3enerally consider beta determined o+er the lon3 term

4ebt )270!

=uity 19218!

:e determine the a+era3e cost, which is called :=I


55/100

rket

d, the market rate

d at !

y were to issue

o #rice at $!

e o issue

$!

- 1082

200

200200

200

10200

d

what ha##ens

umber to be 10$!

semi-annual discountin3 rate

tes into an $! annual

years


56/100

6 years

ond where !2

nd

ur

e.t

=stimated

=stimated

=stimated

In+estors e.#ectations o returns

99276


57/100

owth annuity is

ntin3 rate


58/100


59/100


60/100


61/100

108!

is the frst year cou#on


62/100


63/100


64/100


65/100

'infnity


66/100

ckre okay with some risk o losses

uity

of, which reduces your ta.

at 9!

income is only "s $2)0 lakhs

,000

( is $! and ta. rate is 80!,

. deductible &no ta. beneft(

106


67/100

uity holder

come you bar - you ha+e to earn

3 additional risk(

3enerated

e, which is wron3

ich is correct

ia(, I would ha+e been ha##y


68/100

I%/A &:/**(

uity

t I utiliGe rom the world


69/100

0hould we e"press all this on annuali9ed basis or semi-annual basis

hat is human conention

1ge - ?E>A ery correct, but these people dont understand - not conention

Interest world oer is e"pressed as an annual rate

hen we say interest is #2=, we mean two things 3unless otherwise stated4

a$ 5his is #2= per annum

b$ 5his is compounded annually

*re ta" cost of these bonds 3annuali9ed4 #>$@@= ?$##=

*re ta" cost of these bonds 3semi-annual4 ?$2A= ($=

*rice of the Bond - E$$>$


70/100

($(?$@= #,&E@

.+uity #2$>@= AE$A= E$(E= ##,>&?

E$A@= #&,?&(

Book alues considered for debt, in the absence of information on market al

Debt market alues 3where traded and li+uid4 does not tend to moe too far f

Further, most debt is not trade-able, hence subsitution of book alues is fairl

Book - Chapters #, &, cr, /s > cr, /s > cr and then sell it off for /sIs this a good idea

hat are these /s & cr, /s ( cr numbers - what e"actly are they

1nswer - these numbers are a form of Cash Flow 3but a rather peculiar form4

5hey are determined in a certain way, which is uncommon otherwise 3these n


73/100

in a *J' or a Balance 0heet or a Cash Flow 0tatement4

e assume that capital is being proided by a combination of two communiti

5he 'iab side of the Balance 0heet is the Funding 0ide

5he 1sset side of the Bal 0heet is the %perating 0ide 3these guys use up all th

5he %perating chaps should not interfere in funding decisions 3and hopefully

7ou, as an engineer, hae estimated that it will cost /s #2 cr fo this factory

Now your !ob is set up that factory

My !ob is to proide you /s #2 cr

7ou dont worry how I am generating these funds 3how much debt, how much

*7 Notes4

I will not bother you with which machine, what capacity, which manufacturer

5here is a Chinese wall - at least in concept

It is possible that your factory in in *une and your office is in BC

1ll the nuances of the 1CC is known only within BC

*une guys are told, please earn minimum #?= and dont ask why

4eal 322$22

Depn #


74/100

,apex 2+aluation - a corrupted for' of cash flow

0ales /eenue #,222$22

%perating Costs @22$22

.BID51 >22$22

Depn #&2

@@$@# @@$@#


75/100


76/100

?$((= ?$&A= ?$&2=

($


77/100

ur pocket is, what is your


78/100

the 60 is li+uid 3and you can

e =

in bonds

fied with a return of

unless you hae specific

in the coming years

r is planning to get into

y be erroneous

limitation

t says you generally pay

r a cheery consensus


79/100

#2$#E=

AE$A#=

es

rom book alues, in any case

common

e e"amples - using market

n amalgam of all of these

end /s #2 crs on it

cr at the end of the


80/100

s 3lender and inestors4

cash4

he other way round also4

e+uity, bonds, 0BI loans,

which technology


81/100

ear &, will help in

*), I//, etc

also not got hit by dollar olatility

ely depreciate - leaing a 60D 'oan open is rather ha9ardous,

nth


82/100


83/100

#Corporate e"amples for capital e"penditure ealuation

&'ittle bit of risk, sensitiity

(0ome more stuff about beta 3which is essentially risk again4

>'ittle bit about bonds

Incre'ental wor)ing capital

hat is working capital

Current assets minus Current liabilities

Most of the time, is it positie or negatie

*ositie 3C1 O C'4

Does it take away cash or generate cash

It will take away cash, primarily it represents outflows7our working capital last year was /s #&< cr - March (#, &2#

Corp Fin Session Notes Oct 2015

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